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Why would restrictive covenants matter to management?

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Mizdee | Student, Undergraduate | (Level 1) Valedictorian

Posted April 3, 2013 at 6:27 PM via web

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Why would restrictive covenants matter to management?

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pohnpei397 | College Teacher | (Level 3) Distinguished Educator

Posted April 3, 2013 at 6:36 PM (Answer #1)

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The answer to this depends to some degree on whose management you are talking about.  Bank management and the management of the borrowers would have different perspectives on why restrictive covenants matter.

From the point of view of the bank’s management, these covenants matter because the managers have a duty to protect their institution.  This entails making sure that there is as little risk as possible involved when loans are made.  The covenants matter because they can help to reduce that risk and, thereby, they can help the managers do their job.

From the point of view of the management of the borrowing firm, restrictive covenants matter because they limit the firm’s freedom of action.  The firm will have to abide by the provisions of the covenant and therefore may be unable to do some things that it would like to do.  This means that the firm’s management has to be able to figure out ways to work within the limits of the covenants.  This is the price that they pay for being able to get the loans that they need.

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